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Oil Fundamentals Overturn Geopolitical Risk

Oil posted gains on Monday on news that the Iraqi military had seized control of Kirkuk, but oil fundamentals and the large supply capacity of both OPEC and U.S. shale saw prices fall back on Tuesday.

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- U.S. oil production will average 9.4 million barrels per day in the second half of 2017, according to the EIA, an increase of 340,000 bpd from the first half of the year.

- Production is set to surge to 9.9 mb/d next year, which, if it comes to pass, will be the largest annual average output on record, surpassing the previous all-time high of 9.6 mb/d in 1970.

- Most of the production increase will come from the Permian basin.

Market Movers

- Phillips 66 (NYSE: PSX) was downgraded by Jefferies from Hold to Underperform, with a $77 price target. The analysts said that the company’s share price premium is unjustified “with poor performance on the Freeport LPG export expected through at least 2018 [and] a delay in the CPChem project in-service due to Harvey." Andeavor (NYSE: ANDV) and Valero (NYSE: VLO) also suffered downgrades.

- Major LNG exporters are now struggling to find enough buyers after a massive build up in production and export capacity. Royal Dutch Shell (NYSE: RDS.A), Chevron (NYSE: CVX), Total (NYSE: TOT) and Cheniere Energy (NYSE: LNG) are trying to stoke demand in shipping and trucking, in addition to electricity generation, but the market will remain oversupplied in the near-term.

- U.S. FERC approved the Atlantic Coast and Mountain Valley pipeline projects on Friday. Dominion Energy’s (NYSE: D) Atlantic Coast pipeline will run from West Virginia to North Carolina, taking Marcellus Shale gas to the Southeast. EQT Midstream Partners’ (NYSE: EQM) Mountain Valley pipeline will run from West Virginia to Virginia. Both projects are highly controversial and still need state permits.

Tuesday October 17, 2017

Iraq takes Kirkuk from Kurds. Iraqi forces unexpectedly seized control of the key oil fields around the city of Kirkuk, which had been under Kurdish control for more than three years. The move sparked concerns over civil war, and comes three weeks after the Kurdish referendum favoring independence. There were early reports that an estimated 350,000 bpd of oil production was temporarily sidelined after Iraqi government forces took control of the oil fields, and there are conflicting reports on whether the outage remains. Kurdistan has said it would not impede oil exports. The problem is that the oil flows through Kurdish pipelines as a separate pipeline system under Baghdad’s control is damaged. Oil jumped on Monday on fears of outages, although those fears will probably dissipate if exports are restored. Related: Oil Markets Fear Iraqi Escalation

Trump’s decertification of Iran deal could impact oil prices. There won’t be any immediate effect on the oil market from the decertification of the Iran nuclear deal by the Trump administration, but if tensions rise in the coming months, it would likely occur at a time when the oil market is tightening anyway, leading to upward pressure on prices, according to FBR Capital Markets.

Goldman: return of risk premium to oil market. The decertification of the Iran nuclear deal and the military offensive by the Iraqi government has thrust the prospect of geopolitical risk back into the oil market, according to Goldman Sachs. Still, it isn’t like it used to be – years ago, oil would immediately jump by a few dollars per barrel when news would break about heightened tension. The return of geopolitical risk will be more muted due to a well-supplied market.

Saudi Aramco reconsiders IPO. Saudi Aramco has hyped a 2018 IPO for 5 percent of the company, but the FT reported on Friday that the company is considering shelving the public offering altogether over fears of legal troubles with listing on the New York or London Stock Exchanges. Instead, the company is looking for private investors, soliciting interest from the massive state-owned oil companies in China. Reuters reported that top Chinese companies and the country’s sovereign wealth fund could band together to purchase 5 percent of Aramco outright, obviating the need for a public offering. Still, no decisions have been made.

Oil demand to stagnate next decade. While peak oil demand might prove elusive, demand will expand at negligible levels beginning in the 2020s, according to Wood Mackenzie. The consultancy sees demand still rising to 2035, but at very slow rates. While WoodMac does not see peak oil demand overall on the horizon, it does see a peak for gasoline. Consumption in the transportation sector is expected to dip due to the penetration of EVs, but the petrochemical industry will offset the decline. Natural gas will take on greater significance as a fuel used in trucking, shipping, electricity and petrochemicals.

Norwegian Arctic disappoints. Norway’s Arctic started the year with a lot of hype, but much of the drilling has been a huge let down. The Barents Sea is thought to hold huge volumes of oil and gas, which will be crucial in preventing Statoil’s (NYSE: STO) oil production – as well as Norway’s more generally – from falling in the next decade. Oil companies drilled a record-high 15 wells in the Barents Sea this year. Among Statoil’s 5 wells, only one proved worthy of development, and it was for relatively paltry 50 million barrels. Moreover, the most hyped well of all – the Korpfjell – yielded uncommercial volumes of gas. “It’s been very disappointing for everyone,” John Olaisen, an analyst at ABG Sundal Collier Holding ASA, told Bloomberg. Statoil and others insist that they are playing a long game and that their efforts are not over.

Russia prepared for $40 oil. Russia’s finance minister said that Russia’s budget is based an assumption of $40 per barrel. "In order to minimize price fluctuations on foreign markets we have prepared a budget which is based on a price of forty dollars a barrel. I think that this is a fairly considered and conservative price, which has been factored in for the next three years," finance minister Anton Siluanov told CNBC.

Oil platform explosion; pipeline leak in Gulf of Mexico. An offshore oil pipeline leaked as much as 9,350 barrels of oil into the Gulf of Mexico over the weekend, the largest spill since the 2010 Deepwater Horizon disaster. The pipeline’s operator LLOG Exploration Company LLC is trying to get a handle on the situation. Separately, an oil rig exploded in Lake Pontchartrain just north of New Orleans, leaving several workers injured and one missing and presumed dead. The rig was owned by Louisiana-based Clovelly Oil Company.

ConocoPhillips details ambitious Alaska drilling program. ConocoPhillips (NYSE: COP) laid out a drilling program in Alaska that is its most ambitious in years, with five exploration wells to be drilled in early 2018. Three wells will help develop the Willow prospect in the National Petroleum Reserve-Alaska, which could produce 100,000 bpd. Conoco could be critical in halting the slide in the state’s falling oil production. Related: Is The Aramco IPO On The Brink Of Collapse?

Haynesville shale making a comeback. The Haynesville shale in Louisiana started the shale gas revolution a decade ago, but it fell out of favor as shale drillers began focusing on oil in Texas. Also, cheap gas from the Marcellus made the Haynesville unnecessary. But now drillers are returning to Louisiana, equipped with experience in new drilling techniques. Haynesville gas production is up 20 percent this year and there could be a lot more room to run. The resurgence is led by some shale gas veterans like Chesapeake Energy (NYSE: CHK).

U.S. oil exports increasingly heading to India. Indian refineries are planning to ramp up “test” purchases of U.S. oil to assess how their facilities handle American crude, according to Reuters. To date, U.S. crude shipments to India have been rare, but India is looking for sources of supply beyond the Middle East. “A lot of these (Indian refiners) want to see what it’s like if they run it,” a Houston-based oil broker, told Reuters. “They want to get a taste of U.S. crude.”

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